Question

1. Special Order Decision

Robin Company produces a light-weight travel raincoat with the following unit cost:

Direct materials                          P4.00

Direct labor                                  P1.00

Variable overhead                     P1.75

Fixed overhead                          P2.00

     Unit cost                                 P8.75

      While production capacity is 200,000 units per year, Robin expects to produce only 170,000 raincoats for the coming year. The fixed selling costs total P85,000 per year, and variable selling costs are P0.50 per unit sold. The raincoats normally sell for P12 each.

      At the beginning of the year, a customer form a geographic region outside the area normally served by the company offered to buy 20,000 raincoats for P8 each. The customer would pay all transportation costs, and there would be no variable selling costs.

Required:

Should the company accept the order? Provide both qualitative and quantitative justification for your decision. Assume that no other orders are expected beyond the regular business and the special order.

2. Optimal Mix

Two type of gears are produced: Y and Z. Gear Y has a unit contribution margin of P200, and Gear Z has a unit contribution margin of P400. Gear Y uses two hours of grinding time, and Gear Z uses five hours of grinding time. There are 200 hours of grinding time available per week. This is the only constraint.

Required:

1. Is the grinding constraint an internal constraint or external constraint?
2. Determine the optimal mix. What is the total contribution margin?
3. Suppose that there is additional demand constraint: Market conditions will allow the sale of only 80 units of each gear. Now, what is the optimal mix? The total contribution margin per week?

1. Special Order Decision

Robin Company produces a light-weight travel raincoat with the following unit cost:

Direct materials                          P4.00

Direct labor                                  P1.00

Variable overhead                     P1.75

Fixed overhead                          P2.00

     Unit cost                                 P8.75

      While production capacity is 200,000 units per year, Robin expects to produce only 170,000 raincoats for the coming year. The fixed selling costs total P85,000 per year, and variable selling costs are P0.50 per unit sold. The raincoats normally sell for P12 each.

      At the beginning of the year, a customer form a geographic region outside the area normally served by the company offered to buy 20,000 raincoats for P8 each. The customer would pay all transportation costs, and there would be no variable selling costs.

Required:

Should the company accept the order? Provide both qualitative and quantitative justification for your decision. Assume that no other orders are expected beyond the regular business and the special order.

2. Optimal Mix

Two type of gears are produced: Y and Z. Gear Y has a unit contribution margin of P200, and Gear Z has a unit contribution margin of P400. Gear Y uses two hours of grinding time, and Gear Z uses five hours of grinding time. There are 200 hours of grinding time available per week. This is the only constraint.

Required:

1. Is the grinding constraint an internal constraint or external constraint?
2. Determine the optimal mix. What is the total contribution margin?
3. Suppose that there is additional demand constraint: Market conditions will allow the sale of only 80 units of each gear. Now, what is the optimal mix? The total contribution margin per week?

Answer 1

Special Order Decision:

Given information

Cost per unit of the product / raincoat is

Direct materials	P4.00
Direct labor	P1.00
Variable overhead	P1.75
Fixed overhead	P2.00
Unit cost	P8.75
Selling price per unit	P12
Fixed selling costs	P85,000
Variable selling cost per unit	P0.50 per unit sold

At the beginning of the year, the company received an special order from a customer to buy 20,000 raincoats for P8 each bearing all the transportation costs and there would be no variable selling costs.

Acceptance / Rejection of Special order: In order to accept an order, the relecant cost will be considered. Relevant cost will be the cost that will incured for the product/offer. In the given case, the relevant cost per raincoat will be:

Direct materials	P4.00
Direct labor	P1.00
Variable overhead	P1.75
Relevant cost for special offer	P6.75

Since the relevant cost to produce the special order is less than the price offered by the customer (i.e. P8), the offer should be accepted by the company as it results in net profit of P1.25 (P8 - P6.75) per raincoat.

Qualitative factor: Since the offer is received from outside the geographic region and also it can be served for a one time to the customer, it will not affect the price in the regular market. Hence the offer can be accepted.

Quantitative factor: Currently the company is producing a capacity of 170,000 raincoats per year out of production capacity of 200,000 raincoats per year. By accepting the offer, the company can produce the 20,000 raincoats with any increase in the fixed manufacturing costs and fixed selling costs. Hence the offer can be accepted.

Optimal Mix:

Given information

Two type of gears are produced: Gear Y and Gear Z.

Contribution margin per unit of Gear Y = P200

Contribution margin per unit of Gear Z = P400

Grinding time used by Gear Y = 2 hours

Grinding time used by Gear Z = 5 hours

Maximum Grinding time available per week = 200 hours

Is the grinding constraint an internal constraint or external constraint?

Grinding time is an internal constriant because it depends on the production hours available in the company and it is not affected by any outside source.

Determination of Optimal mix and the total contribution margin:

	Gear Y	Gear Z
a. Contribution margin per unit	P200	P400
b. Required Grinding time (in hours)	2 hours	5 hours
c. Contribution margin per Grinding time (a / b)	P100	P80
d. Ranking based on Contribution margin per Grinding time	1	2

Since there are only 200 hours of grinding time available per week, it will be used to manufacture Gear Y as the Contribution margin per Grinding time is higher for Gear Y.

Suppose that there is additional demand constraint: Market conditions will allow the sale of only 80 units of each gear. Now, what is the optimal mix? The total contribution margin per week?

	Gear Y	Gear Z	Total
a. Contribution margin per unit	P200	P400
b. Required Grinding time (in hours)	2 hours	5 hours
c. Contribution margin per Grinding time (a / b)	P100	P80
d. Ranking based on Contribution margin per Grinding time	1	2
e. Hours used in production	160 hours	40 hours	200 hours
f. Units to be produced (e / b)	80 units	8 units	88 units

Optimal mix is Gear Y = 80 units and Gear Z = 8 units to be sold

Total contribution margin per week of Gear Y = 80 units x P100 = P8,000

Total contribution margin per week of Gear Z = 8 units x P80 = P640